What to Do
Since it first appeared, EBITDA has been an increasingly popular tool in the telecommunications, cable and media industries. It is not a true measure of cash flow, as straightforward cash from operations would typically result in a far lower figure. The formula used is either:
or:
What You Need to Know
- There is no standard definition of EBITDA, so it runs the risk of being manipulated to suit the purposes of accountancy—thereby undermining its credibility.
- EBITDA takes no account of capital expenditure—in capital intensive industries such as manufacturing, transportation, and technology (particularly in the early phases), this could result in misinformation at the very least.
- Critics of EBITDA argue that: interest and taxes do require cash settlement; investors are further down the list of priorities than creditors; EBITDA takes no account of significant factors like working capital, loan repayments and other fixed expenses; it can present companies in an unjustifiably favorable light.
- However, investors and analysts may still find EBITDA helpful when comparing companies in the same sector that have different tax rates, and varying approaches to depreciation and capital structure.
Where to Learn More
Web Site:
The Motley Fool: www.fool.com
